The State of Real Estate Crowdfunding

Today’s post is a guest post from Soren Godbersen of EQUITYMULTIPLE, a crowdfunding commercial real estate investment company. The company is not a site sponsor, but I do have an affiliate partnership with them (if you invest with them via a link from this site, the site earns money).

I personally have not made crowdfunded real estate investments like my friends The White Coat Investor and Passive Income MD have, but the deals will start to look more attractive as my income drops and tax treatment of such deals will improve in the coming years. -PoF.

Soren, the floor is yours.

A Brief History of Real Estate Crowdfunding

Following the housing crash of 2007, as regulations were introduced and credit tightened, emerging companies were left with little or no access to the capital markets. In an effort to ameliorate the credit crunch, Congress drew up the Jumpstart Our Business Startups Act (JOBS Act for short), broadening the scope of who can invest in startups.

While the legislation was conceived with startup businesses in mind, interested parties quickly realized that the new rules could extend to real estate equity investments, allowing real estate companies to essentially market shares of projects to individual investors – a method of raising capital that had been legally precluded since the Securities Act of 1933.

While real estate companies are able to broaden the reach of their investor network through this new paradigm, individual investors also gain access to a realm of real estate projects that were previously available almost exclusively to very wealthy individuals and institutional players, lowering the barrier to entry and allowing many investors to participate in commercial real estate investing for the first time.

This value was evident enough to encourage a number of hybrid real estate/tech companies to enter the space, with Fundrise, RealtySharesand RealtyMogul emerging as early leaders and raising substantial venture capital.

Crowdfunding Growth Trajectory

The road hasn’t always been easy. While a handful of companies have grown impressively, many others have fallen by the wayside, as many investors and real estate companies have been cautious in pursuing real estate crowdfunding. Those without the requisite experience in tech and real estate have struggled to find scale. Still, the young industry continues to grow impressively year over year:

YoY Growth – Real Estate Crowdfunding

Year

RE Crowdfunding Numbers Worldwide

2012

$19m

2013

$400m

2014

>$1bn

2015

$2.5bn (150% growth)

· North America: $1.4bn

· Europe: ~$1bn

· Asia: ~$50m

2016

$3.5bn (40% expected growth)

While growth slowed somewhat in 2016 (likely in response to top-of-market trepidation), the 40% figure is still robust, and the U.S. accounted for a large share of the $1bn of overall industry growth this year. In 2015, the $1.5bn in volume for U.S. real estate crowdfunding represented only 0.3% of total real estate finance transactions in the U.S., indicating that the sub-industry still has enormous room to grow, even while remaining modest as a share of overall commercial real estate activity in the economy.

As time goes by, crowdfunding platforms have specialized and molded themselves around particular niches within the space, focusing the profile of their deals. While Fundrise and RealtyMogul saw early success marketing the opportunity to invest in distinct, tangible projects, both have pivoted to offering an ‘eREIT’ product that takes asset allocation out of the hands of their individual investors while providing built-in diversification.

What Happens Next in Crowndfunded Real Estate?

The trend of division and specialization among real estate crowdfunding platforms is likely to continue, with the potential for consolidation in the advent of a dip in the market.

While more established players in the space have raised tens of millions of dollars of capital, even those with extensive track records over the past few years have recently experienced difficulty in sustaining quality deal flow, particularly with respect to high-upside equity deals.

The transition of the executive branch will likely have a major impact on commercial real estate capital markets, and therefore on the prospects for the young real estate crowdfunding industry. The trouble is, no one can credibly claim to know what that impact will be.

If initial optimism in the public markets is to be believed, capital markets at large will benefit from a business-friendly regime and reduced regulatory oversight. However, uncertainty in the new regime’s attitude toward trade, fiscal policy and a host of other issues make it difficult to draw any concrete conclusions. What does seem certain is that we’re headed for the long-anticipated interest rate hikes, and that volatility in global markets is unlikely to disappear anytime soon.

Of course, like any investment, real estate investments carry inherent risk. If you are considering investing through one or more of these platforms, be sure that the people responsible for sourcing investment opportunities can point to a substantial track record, and are transparent with respect to risk factors.

Interested in learning more about crowdfunded real estate investing? Check out these posts:

19 comments

I have not to date invested in this space. However I have read you need to be careful. As you noted some sites are equity based versus some are lien based. I’d much rather be the latter. That being said without seeing the property itself in person the inspection of the property makes me nervous. How do these sites check out the property to ensure your not buying a site unfit for usage?

Great question. I’m the co-founder of EquityMultiple (same company as the article above) so I can give you some background on how we review projects.

First, we offer both lien based debt investments and equity investments (and “preferred equity”, which sits in-between the two). A lien certainly fundamentally limits your downside because you can always fall back on the value of the property. However, from a risk-adjusted perspective, the sort of debt investments offered by many crowdfunding companies aren’t always the most desirable. As a whole, the underlying quality of the asset on preferred equity and equity deals is frequently higher, simply because those same assets have access to bank debt. That’s why we take an opportunistic approach and offer investors a variety of investment structures and strategies.

In terms of the diligence process, we start by reviewing the real estate company running the project (experience, track record, background checks, etc), then look at the market (generally primary and secondary markets with good demographic trends and employment) and then do a deep dive on the deal itself (re-underwriting, stress testing assumptions, reviewing key documents). My co-founder and I both come from institutional real estate backgrounds (legal for me, private equity for him) so have implemented versions of the processes we practiced there. We’re also partnered with a much larger real estate firm, Mission Capital, that helps us source quality companies and transactions through their national network. All in all, we only present about 5% of the projects we review to investors. We recently did a quarterly update webinar that dives into this in a bit more detail if you’re interested – https://www.equitymultiple.com/blog/quarterly-investor-webinar-ceo-charles-clinton/.

Apologies for the long winded answer but it’s a key question. There are, I’m sure, bad-seed companies that are trying to raise money for projects that have no business getting done but the good ones are as transparent as possible about their processes and projects.

I am really looking forward to learning more about these opportunities rather than buying more properties. Although this certainly concerns me, because of giving up the control over what is happening with them. We don’t have total control of our 10 rental units, but we choose tenants and control the maintenance of the buildings, etc. As FTF said above, equity vs. lien – I need to make sure I understand all of that as well (including the tax implications). It will help me grow my “learning” habit for sure!

Thanks for the shoutout! I’ve had some good success with crowdfunding and have to say it was a great way for me to dip my toe into the real estate investing pool without putting a huge amount of capital at risk.

Haven’t heard of Equitymultiple but I’ll sure take a look. Loved this update. Thanks for the info.

My boss has done some ownership style deals with a local company. They had a what seemed like a high minimum, $100K, but he has been a part of it for a number of years now.

I’m not really sure what the returns have been. It is intriguing, but you are having to put a lot of trust in other people’s processes. So of course, do lots of due diligence.

At what point do you think something like this is worth pursuing? I currently have a relatively small account and doubt at my level there would be much bang for the buck when you add in in the fact of having another account to manage.

Another blogger posted about Self-directed 401(k). Is that something this company can work with?

From the perspective of a borrower: I am an FP in central NJ and recently used Groundfloor to fund a flip house that we bought at Auction. I was originally working with a hard money lender and did not like the terms of the loan offered, including that payments started the month after loan origination, so I looked into Groundfloor after reading about them in an article somewhere. I liked the speed and simplicity of approval (they did not need to review every financial document I’ve ever touched, unlike the hard money lender) and no payments are required until the loan comes due in 12 months (of course, interest accrues throughout, so when I pay back the loan in 3 or 4 months, I will be paying the base amount of the loan plus 3 or 4 months of interest on top of that). They have a simple website where I can upload progress reports and pictures for the lenders who financed my loan. The draw process is also easy–I requested a draw of rehab funds on the day of closing so I could pay my contractor and the money was in my bank account the next day. I will definitely use them again to fund future REI transactions.

These investments come with significantly higher risk than owning real estate directly and should only be considered after all retirement accounts are maxed and savings has been built up etc. With that said, it does provide a nice option for diversification and could outperform other investments as they usually return 8-10%.

Thanks for your feedback. I’m the co-founder of EquityMultiple (same company as the article above) so full disclaimer on my bias but wanted to weigh in.

There are certainly additional risk factors that aren’t present in direct ownership but there are also distinct benefits and risk mitigants. The core benefit to direct ownership is control and if you want to buy property without any debt on it, there are few asset classes with better downside protection. However, depending on your experience in picking and managing properties, the process can be time intensive and expensive and you’re at a fundamental disadvantage compared to professional, full-time real estate investors.

I think you hit core advantage of companies like EquityMultiple – diversification. We focus solely on commercial properties, which are frequently much larger than most individual investors would be willing or able to take on. We work with experienced real estate companies with strong records and we vet both the company and the project before putting it in front of investors. Finally, we make it easy for investors to build their own diversified portfolio – we keep investment minimums low and offer a range of risk, return and duration profiles.

Please feel free to reach out if you’re interested in more info as you consider investing.

I’ve invested through multiple RE crowdfunding platforms both in equity and debt deals. Due diligence on both the sponsor and platform is crucial. CrowdDD.com has been a very helpful tool. DEBT: I no longer do individual debt deals as deal flow has shrunk and too many investors invest in these blindly. Deals fill w/in hours if not less. I would invest in debt funds as these institutional investors originate their own loans or in some models, get first pick of all the platforms best deals. Plus you get diversification of many (dozens to hundreds) individual mortgages in one fund. Yields have been dropping from 10+% just a couple yrs ago to 7-8% range now. EQUITY: I invest directly with the sponsor listed on crowdfund platforms. This is in contradistinction to investing in a crowdfund LLC that invests with the sponsor. Again, must do thorough due diligence by interviewing sponsor, review track record, etc. I’m in several funds for asset, sponsor, and geographic diversification sprinkled with one off deals that have compelling stories. Of note, these investments are for accredited investors. Investments are illiquid (debt 1+yr; equity 3-10yr). You can invest through self directed IRA, checkbook IRA LLC or SD 401k. Personally, I do SD 401K. Educate yourself thoroughly before investing a single dollar.

I do Peer-to-Peer lending (Prosper, since 2012) and REIT Crowdfunding (Peer Street, since May 2016). I keep my positions very small as a % of my portfolio, but like having a bit of diversification and appealing returns. Thus far, both have worked out well. The big test will be in the next downturn, which is why I’ve kept my positions small (<$20k total between both platforms).

As a rather “omnivorous” crowdfunding investor who’s made investments using more than a dozen different platforms (spanning Real Estate, P2P loans, Angel/Venture, litigation finance and more), I find Real Estate equity deals one of the most “fun” to participate in.

When it’s straight debt (P2P or Real Estate), then it’s ultimately just a diversification and numbers game. When it’s startup equity, it can be super fun to play “Shark Tank” and dig deep into a company’s pitch and prospects, but then maddeningly difficult to meaningfully monitor progress against any sort of likely liquidity event. The real estate equity deals are a happy medium, with plenty of raw numbers to crunch, a nice sprinkling of sometime-subjective analysis of a sponor or a market, and a clear path to liquidity with detailed models to track against along the way.

I’d encourage anyone exploring real estate crowdfunding to at least take a look at other kinds of investments available using the same regulatory frameworks (typically SEC Reg D, Reg CF, or Reg A) — there’s some interesting other options out there (even for non-accredited investors — I’ve found more than 25 platforms that will accept investments from non-accredited investors, including real estate and startup funding).

While there’s no question some investments (and platforms) will fail along the way (especially when the market turns south, as it always does eventually), in the long run I think we’re living through a really important new development in the evolution of capital markets.

I have wondered at what threshold of savings/other investing vehicles one should have before moving onto RE crowd funding. As a relatively conservative investor, I’d be concerned that I might become the “unlucky” one who invests in one that flops!

I’m the CEO of EquityMultiple (same company that wrote the article above). This is a great question and, given my obvious bias and not knowing your portfolio, I’m probably not the best to answer it. What I can offer is a bit on our general approach on portfolio building and diversification and hopefully that’s helpful.

We never advocate investors going all in on a particular project or over-allocating into real estate in general. If you look at the institutional investor world you’ll frequently see allocations ranging from 10-20% of their total portfolio. Most individuals, however, have next to zero (not including their homes). Even a 5% allocation would start to correct that imbalance.

Whatever an investor decides is the right allocation for their portfolio, we further advocate diversification within their real estate allocation. This is one of the core advantages companies like EquityMultiple can offer – we offer relatively low minimum investments ($5k-10k) and a range of risk, return and duration on our investments. Rather than putting $200k into personally owning one small property, you can spread it between 5, 10 or even 20 distinct investments, providing some insulation against being the “unlucky” one.